Post on 22-Apr-2023
THE SPECIAL DRAWING RIGHTS
SDRs were created by the International Monetary Fund (IMF) in
1969 to supplement the
stock of official reserves. The original intent of the program
was to revitalize the dying Bretton
Woods system by altering the composition of international
reserves between the scarce quantity
of monetary gold and the abundant stock of dollar liabilities.
The initial allocation of SDR 9.3
billion, over the 1970-72 period, failed to achieve this
objective. Not surprisingly, in 1971 the
gold convertibility of the dollar was suspended. A second
allocation of SDR 21.4 billion took
place from 1979 tom 1981 in the wake of the second oil shock.
Also this allocation failed to
achieve the intended results of stabilizing the dollar-based IMS.
After that, SDRs have played a
marginal role as international reserve, in parallel with the
declining importance of the IMF. The
SDR has remained mainly a unit of account, defined in terms of
fixed, but adjustable every five
years, quantities of a few important national monies. At the
moment, the basket includes the
dollar, the euro, the yen and pound sterling.
The G20 recommendation of a new SDR allocation worth $ 250
billion at the 2009
London meeting has brought back to front stage the SDR as an
international reserve asset. It is
the only official proposal to strengthen the IMS; hence, it
deserves careful examination not only
for its own merit but also for the prospect of a positive
evolution of the IMS. Policy makers have
underscored that the new allocation can be effected rapidly
because it is part of an existing
institution codified by the Articles of Agreement of the IMF.
They have also claimed that the
decision would create sufficient new international liquidity to
finance external imbalances and
set the IMF again back at the center of the IMS. In fact, the
London recommendation builds on
a weak scheme that has produced few results in the past.7
Furthermore, the size of the new
allocation is small relative to the size of the external
imbalances, especially those of the United
States. Finally, the very structure of the SDRs assigns to the
IMF a largely passive role.
To better understand the discrepancy between policy makers’
expectations and likely
outcome, we start by recalling that the “SDR is neither a
currency, nor a claim on the IMF.
Rather, it is a potential claim on the freely usable currencies
of IMF members” (IMF 2009).
Once a SDR allocation decision has been made, the IMF has no
discretionary power on how
SDRs will be used. Under the present system, exchanges of SDRs
for national currencies occur
either through voluntary bilateral transactions or through the
IMF that may designate member
countries with external surpluses to accept SDRs in exchange for
their currencies. Thus, the IMF
acts as a broker matching deficit to surplus countries to
exchange SDRs for international
monies. The transactions remain bilateral.
Each member country receives an amount of SDRs that is
proportional to its quota in the
Fund, without any necessary ex-ante consideration about the
external liquidity of the country.
After the allocation, a deficit country (DC) can swap SDRs for an
equivalent amount of
international money, say dollars, at a surplus country (SC). The
price of the swap is an interest
rate (equal to a weighted average of the money market of the four
currencies in the SDR basket)
paid by DC to SC. After the swap, DC has more dollars and less
SDRs; the opposite is true for
SC. DC can use the acquired dollars to intervene in the exchange
markets, while SC can use the
acquired SDRs to diversify the currency composition of its
international reserves. In essence,
the mechanics are those of a “giro system” aimed at stabilizing
exchange rates (Machlup 1968,
p. 13).
The SDR scheme is designed to activate hoarded international
money. The latter is
redistributed from SC to DC countries. But there is very little
that SDRs can do to improve the
position of the largest deficit and net external debtor country
in the world. The United States is
unique in both the size of its external imbalances and as a
provider of the dominant international
money. The US share of the new SDR 250 billion is paltry relative
to the size of the US external
imbalance. To make a dent on the problem would require a large
allocation only for the United
States. Under such circumstances, the Fed could exchange SDRs for
dollar assets at SCs,
starting from the dollar-rich People’s Bank of China, and reduce
the high weight of dollars in
official reserves.8 But apart from the large size of SDRs
involved, the bilateral SDR-dollar swap
would be incapable of making the necessary adjustment required to
mop up the “excess” supply
of dollars. The swap, in fact, would leave the size of the US
monetary base unchanged (only the
composition would change in favor of domestic assets). To effect
a reduction of the US
monetary base, the Fed would have to sell in the market place the
T-bills received from SCs in
exchange of SDRs. The Fed and the US government would have to
explicitly agree to such a
policy.
The basic idea of using SDRs as a replacement for dollar-
denominated assets held by
central banks was taken up in the Seventies by the Committee of
Twenty (1974). The latter
produced a proposal, known as the Substitution Account, which was
later evaluated by the
Interim Committee of the IMF in 1978-79. Under the proposal,
central banks could open an account denominated in SDRs by
depositing dollar assets at the IMF. Thus, SDRs would be created
endogenously by the actions of those central banks that deemed to
have too many dollar assets in their official reserves.
In contrast, the existing SDR scheme envisions only exogenous
supply increases. The Substitution.
Account never came to light because neither the IMF nor the
United States were willing to bear
the exchange rate risk arising from an unhedged position of the
Fund having dollar assets and
SDR liabilities (Boughton 2001, ch. 18). Had the Substitution
Account been implemented, we
would have avoided the large overhang of dollar reserves that now
threatens the durability of
the international dollar standard.
The importance of reforming the existing SDR mechanism in a
supernational direction
has been raised recently by Zhou Xiaochuan (2009), the Governor
of the People’s Bank of
8 In the balance sheet of the Fed, the exchange would imply a
reduction of SDRs and an equivalent
increase of dollar assets (T-bills).
China. China, more than any other country, is exposed to the risk
of an implosion of the dollar
standard and feels urgently the need to diversify out of dollar
assets. Given that the yuan is not
an international money, there is an obvious Chinese interest in
seeing the transformation of the
dollar standard into a supernational money standard. As we have
mentioned it in the
introduction, Mr. Xiaochuan has chosen to endorse the SDRs and
has suggested at the same time
a series of recommendations that would make them converge
progressively to a supernational
money. Among the recommendations, it is worth mentioning the
following three: transforming
the SDR from an artificial basket currency into one backed by
assets; establishing a settlement
system between the SDR and national currencies so as to make the
SDR a fully fledged money;
and linking the SDRs to a specific institution that would be
responsible for their management
and their value, in other words becoming someone’s liability.
The current situationWhile there was broad support for the special one-time allocation
of SDRs with a 77 per cent vote (excluding the USA) the political
support for a broader regular allocation of additional SDRs is
lacking, especially from the industrialized nations. This is
partly because the original driving force behind the SDR idea –
the provision of an additional reserve asset in a world of
limited reserve asset supply – assets meant gold and dollar in
the 1960s – no longer holds.
Since the breakdown of the Bretton Woods system and the advent of
freely exchangeable floating exchange rate systems for the
industrialized countries, the supply of reserve assets has not
been limited.As well as gold and the US dollar, the euro, pound
sterling and Japanese yen are now widely held as reserve assets.
Since these are all freely tradable in the markets, their supply
is not constrained and countries can make decisions about the
level of reserves to hold.This at least is the theory.Yet many
developing countries find it hard to buy and hold reserve assets.
There are two ways in which developing countries can build up
reserves: either by running a balance of payment surplus (excess
of exports and capital inflows over imports and capital outflows)
or through borrowing in the international financial markets. Not
only do both have large associated costs, but many developing
countries find it difficult to build up reserves even if they are
willing to pay the costs.
Countries can build up reserves through exporting more than they
import but this can entail high costs in terms of foregone
consumption and investment. These costs are especially
significant for the least developed countries (LDCs). Having high
capital inflows is another way of building up reserves but these
inflows are concentrated in only a few countries such as China
and other countries in East Asia and hence cannot be a dependable
source of building up reserves for most developing countries.
Countries may borrow to build up reserves but these have large
associated costs even in the cases where this is a viable option.
Most developing countries do not even have access to capital
markets and no private creditor would be ready to lend to most of
the LDCs at anything less than extortionate and clearly
unaffordable interest rates.
Hence developing countries continue to encounter serious problems
in terms of building up sufficient reserves at reasonable costs.
How Gold Will Be Added to the SDR Basket Valuation
By JC Collins
Sometimes what at first appears to be conflicting information is
anything but, and what was originally considered to be opposing
forces or ideals can quickly become unified for the greater
good.There has been much discussion and division over whether the
world was moving towards a multilateral super-sovereign reserve
currency by way of the Special Drawing Right of the International
Monetary Fund or towards a new gold standard by which all
currencies would be valued once again on gold.Positions have
taken up defense on both sides and all waited to see which side
was going to be right. Were the BRICS countries going to
overthrow the western banking cabal? Was the US dollar going to
inflate into oblivion? Was the SDR going to become the new
reserve currency? Was a new gold standard going to be
implemented instead?
So many questions with no clear outline or determinations on what
exactly was going to happen.
I have contested all along that the SDR was going to become the
super-sovereign reserve currency of the emerging multilateral
financial system. The supporters of a new gold standard have
found this idea unworkable because gold is considered to be the
only method of creating stability within the larger architecture
of the global financial system.
But what if everyone is right? Or more correctly, what if all
the obvious points and leverage of each potential system can be
utilized to create the larger macro stability from which the
multilateral will inevitably emerge?
In the post Renminbi is Already a De Facto Reserve Currency, I
discussed how the Chinese currency was being internationalized
and would be added to the SDR basket valuation.
This basket is currently made up of four currencies, being the US
dollar, the Japanese yen, the Euro, and the British pound.
Adding the renminbi to the basket is both important and necessary
for any changes to the global financial architecture.
But this theory has never accounted for the importance obviously
placed on gold and the manipulation and mass movement of the
precious metal which has taken place over the last few years.
No doubt the gold moving east has a lot to due with balancing old
sovereign bond debts and building up reserves to support the
renminbi denominated contracts which have just begun at the
Shanghai Gold Exchange.
But this doesn’t fully explain the demand by other countries for
gold, such as Russia and India, or even Germany demanding its
gold back from the United States.
But nether does a gold standard fit the facts as all
participating countries and economies have stated in official
publications and speeches that a new gold standard is unworkable
and the SDR provided the best opportunity moving forward to
balance the financial structure of the world.
I have attempted to explain and describe how the BRICS countries
are aligned with the larger macro mandates of the SDR
multilateral system and do not plan on overthrowing the western
banks. It is in fact a situation where the western and eastern
banks are all controlled by the Bank for International
Settlements.
It is interesting that over the last few days even certain
conspiracy theorists which have been promoting the overthrow of
the western banking cabal are now stating that the BIS and its
central bank system will remain.
In most of my more esoteric posts I explain how the human mind
seeks out division and from that division is born conflict. Once
symbols of division have been established it is almost impossible
to shift the thinking of each position to see or observe a larger
or more unified macro picture.
But once that realization is made the conscious thought pattern
of all things takes a leap forward and what was once hidden in
plan site becomes clearly visible and clarity resumes.
As we move closer to the end of this year and the ultimate point
of transition to the multilateral, it is important to continue
studying and observing the patterns which are taking place on the
micro level. These proxy resource wars and attempts to
consolidate resources under regional currencies before the larger
macro consolidation takes place will likely taper off as
agreements are made and positions relinquished.
The US Congress will pass the required legislation to enact the
2010 IMF Code of Reforms which will allow for the necessary
changes to the Executive Board of the IMF to take place. This
will also allow for the SDR basket to be opened and the renminbi
and gold will be added to the overall valuation.
So once completed, the SDR basket valuation will consist of the
following stores of value:
US Dollar
Japanese Yen
British Pound
Euro
Renminbi
and Gold.
From this point we need to study and observe the massive amount
of Sovereign Wealth Funds which litter the background of the
international financial architecture.
Energy exporters and pacific rim economies which have undervalued
currencies have been pouring investment into SWF’s. These funds
are in a perfect position to promote the use of the SDR as a unit
of account and store of value.
In the coming months and years you will see Sovereign Wealth
Funds begin to purchase large amounts of SDR denominated bonds
and securities. This is likely where the solution to the
derivatives issue will be found. Somewhere in between Sovereign
Wealth Funds and SDRM – Sovereign Debt Restructuring Mechanism,
will be found the answer.
This will be the “reserve dollar” exit strategy for central banks
and national treasuries. – JC
Proposals for SDR usage
There have been several proposals for reinvigorating SDRs in
recent years for various purposes that range from reserve
allocation to poverty reduction and the provision of global
public goods
In the mid-1980s, executive directors from India, Belgium and
France each sponsored a slightly different plan under which
creditor countries would lend to the IMF the SDRs allocated to
them, for use by the IMF to lend to developing countries.
In 1988, President Mitterrand of France proposed that the
developed countries contribute their shares in a new allocation
of SDRs to a special fund in the IMF that would guarantee the
interest payments on certain obligations issues by debtor
countries.
More recently, ideas were put forward to use the SDR mechanism to
enable the IMF to provide more credit under situations of
financial stress for its members. A task force sponsored by the
Council on Foreign Relations suggested the formation of a new
“contagion facility” for providing funds to tackle the recurrence
of a financial crisis of South East Asian crash dimensions. It
suggested that this facility should be funded through a one-off,
very large ($45-$100 billion) allocation of SDRs that was then
donated to the facility by all the member countries.
Richard Cooper suggested that the IMF articles should be amended
to provide it with sufficient resources to cover even the worst
contingency. The amendment would need to confer the IMF with the
right to create SDRs on a temporary basis as needed to deal with
financial crisis and forestall creditor panic.
This position is broadly shared by IMF staff and was implicit in
a proposal made in 1993 by the then managing director, who
proposed a general allocation of SDR 36 billion for increasing
the supply of reserve assets at reasonable costs. But the
proposal did not get the required 85 per cent support. A recent
IMF working paper suggests the resumption of regular SDR
allocations for the above purposes. The financier George Soros
has suggested that SDR allocations be used to provide global
public goods
He argued that:
• The IMF articles of agreement, as they stand, only allow for
SDR allocations that are distributed to all member countries – in
other words, to develop as well as developing countries.
• If the Fourth Amendment were implemented, the developed
countries should donate their share of $18 billion of the
allocated SDRs to help finance development assistance through the
provision of global public goods.
• An independent board would determine which programmers would
be eligible to receive SDR donations, but the initiatives and
programmers would be generated from developing countries
themselves.
• SDR donations should be used in the first instance for the
fight against communicable disease, particularly AIDS and TB, for
education, judicial reform and initiatives to close the digital
divide.
Other commentators have suggested that the IMF use SDR
allocations to cancel some of the debt owed by poor countries.
All of these proposals have some merit and deserve further
consideration. But it is important to distinguish the different
motivations and impacts implicit in the different proposals. The
ideas put forward by the Council for Foreign Relations and
Richard Cooper both call for the use of SDRs to deal with
contingencies. Under normal circumstances, these do not entail
any additional costs for the developed countries whose currencies
are exchangeable for SDRs. This is because, under normal
conditions of the world economy, the SDRs would not be exchanged
for other currencies and would only constitute a nominal not real
transfer.
The ideas proposed by India, Belgium and France in the 1980s, to
use SDR allocations for conditional lending or guaranteeing some
debt obligations, are again likely to have few incremental costs
for the industrialized countries. Proposals by the IMF staff and
the Zedillo commission are very attractive and entail significant
savings for developing countries that may be as high as $100
billion per year. New allocations of SDRs would have to be re-
directed to poor countries, with the agreement of the rich –
under the current rules, new allocations will not go
automatically to the countries that need them.
Comparison between SDR and GOLD:
IMF’s Special Drawing Rights (SDRs): (Based on London Markey)
Special Drawing Rights (SDRs) were created by the IMF in 1969.
Originally, the value of an SDR was defined as equivalent to
0.888671 grams of fine gold (0.028571oz) which, then, was also
equivalent to a US dollar (1oz of gold = 35 SDRs = US$35).
Anyhow, after the gold exchange standard, commonly called Bretton
Woods in 1973, SDRs have been redefined as a basket of
currencies, today comprising of euros, Japanese yens, British
pounds and US dollars. The SDR rate in US dollars is posted every
day on the IMF’s website. It is calculated as being the sum of a
specific amount of the four currencies in the basket, rated in US
dollars based on the exchange rate fixed at noon, each day, on
the London market.
Gold vs. Special Drawing Rights Gold in SDRs:
Since December 2010, the value of one SDR equals the sum of 0.423
euro, 12.1 yens, 0.111 British pound and 0.66 US dollar. On
February 21, 2014, one SDR was worth $1.542905, an ounce of gold
was worth 857.75 SDRs, and it was worth $1,323.25. This clearly
shows the devaluation of paper currencies compared to gold since
1971 (-2,450.71%).
According to the statutes of the IMF, member countries are
forbidden to tie their national currency to gold. This is the
reason why Switzerland was forced, when it became an IMF member
in 1992, to abandon its 40% gold coverage of its currency which
was until then written in its Constitution. SDRs are neither a
currency, and neither are they IMF-issued credits. It is rather a
potential claim on the free-floating currencies of the IMF
members. China is the only one of the six large world economies
whose currency (Yuan) does not have reserve currency status
Robert Mundell’s INTOR:
It seems that there are secret negotiations going on at this
moment under the auspices of the IMF and the Bank for
International Settlements (BIS) in order to prepare for a new
international monetary system. Many scenarios exist, from
creating an international paper currency, still based on a basket
of currencies like the SDRs (chart #2), but that would include
the Chinese Yuan and other currencies from developing countries
(Russian ruble, Indian rupee, Brazilian real, South-African
rand), to an SDR that would also include a percentage of gold
(charts #3 and #4). Robert Mundell, Nobel Prize laureate in
economics, was already proposing an international currency in
1998, the INTOR, comprising 50% of gold and a basket of paper
currencies (chart #3), while Dubai’s DIFC, in a 2010 study, was
proposing 20% in gold.
ll of those scenarios pre-suppose preparations, along with an
international conference, before a major monetary crisis occurs.
Obviously, the current system has been quite profitable for the
United States, and that it does not wish for profound changes.
« The dollar may be our currency, but it’s also your problem ».
This U.S. position, aptly expressed in 1973 by John Connally,
U.S. Treasury Secretary, in a speech to Europeans, still seems to
be predominant today.
It is impossible now to know what system will be chosen, or which
one will impose itself, because it all depends on the chain of
events that will trigger the end of the current (dollar) system
based on debt (mainly U.S. debt). The United States will be the
last country to accept a reform that would eliminate the
(exorbitant privilege) offered by the present system and it will